Restructuring: The Changing Face of Motor Gasoline Marketing

Introduction

Marketing Operations of Industry Coalesce

Number of Outlets Declines, But Offset by Greater Outlet Productivity

The motor gasoline marketing industry has consolidated over the last several years as the number of retail outlets declined from 210,120 in 1990 to 175,941 in 2000 (Figure 1).   However, the country's population increased over a comparable period, rising from 249.5 million in 1990 to 272.7 million in 1999. (Note 8)   The number of per capita outlets declined by 23 percent between 1990 and 1999 (Figure 2).   Nonetheless, at the same time, motor gasoline sales increased by 7 percent (Figure 3).   The increased sales were achieved through using the remaining outlets more intensely, as indicated by a 28-percent increase in the average monthly sales volume during the 1990's (Figure 4).

Certainly there are many reasons for the increased intensity in the use of retail outlets, many factors that would motivate actions that would generate this result.   Introduction of higher-cost Phase I diesel and motor gasoline in the early 1990's (required by the 1990 Clean Air Act Amendments) tended to increase the costs to retailers.   Additionally, underground storage tank requirements that generally became effective at the end of 1998 elevated the costs of those remaining in the industry. (Note 9)   These factors tended to squeeze marginal operators, some of whom probably exited the industry.   Increases in some retailing costs elicited efforts by retailers to reduce other costs, including using the fixed assets (e.g., the retail outlet and its location) more intensely by shoehorning more goods and services into the outlet and expanding operating hours.

Convenience Store Replaces Service Station As Primary Outlet Format

The traditional service station of the 1940's, 1950's, and 1960's had one or more mechanics on-duty working in one to three service bays and pumping motor gasoline from 2 or 3 islands, each with 3 pumps and 2 nozzles on each pump. (Note 10)   The transition from the traditional service station to the convenience store format began during the early 1970's with the rise in the availability of self-serve motor gasoline. (Note 11), (Note 12)   The increased dependability and complexity of motor vehicles, especially passenger cars, contributed to the decline in the ability of service stations to sell automobile repair and maintenance services. (Note 13)   In turn, this led to the need to replace the revenue streams these activities supplied.   Convenience items supply revenue to augment the motor gasoline and lubricants revenue streams retained by the outlets (although some outlets opted just to go out of business).

Replacing the traditional station was the convenience store (c-store) format in which items such as soft drinks, coffee, and cigarettes are sold inside a store that is surrounded by many gasoline pump islands.   The c-store has evolved further in recent years as branded fast food stores have been combined with the c-store.   This combination has expanded the offerings of the outlet by adding nationally- (or regionally-) branded fast food (such as McDonalds, Dairy Queen, Subway, etc.,), and automatic teller machines.   This is referred to as co-branding or multiple formatting -- i.e., combining a branded motor gasoline outlet with a branded fast food chain outlet.   Co-branded/multiple-format outlets were introduced as early as 1987, but were widely embraced by the U.S. majors during the 1990's.   For example ARCO, Ashland, Chevron, Exxon, Phillips, Sun, Texaco, Unocal, and USX/Marathon all introduced such outlets during 1995 and 1996. (Note 14)   Subsequently, most of the U.S. majors indicated that they, too, had made similar changes in their marketing operations.   These changes were intended to broaden the client base and reduce the operational costs of the affected outlets.

The degree to which convenience store operations have grown in importance to the U.S. majors can be approximated, albeit imperfectly, through use of the Financial Reporting System (FRS) financial data collected by EIA.   In the FRS data series the data item termed "other refining/marketing revenue" (Note 15) per company-operated outlet (Note 16) can be used as a proxy for the U.S. majors' convenience store sales.   During the 1990's the significance of the U.S. majors' convenience item sales grew (between 1990 and 1994), declined (1994 to 1997), and grew again (1997 through 1999), ending the decade at $859,000, 15-percent higher than the 1990 value of $745,000 per company-operated outlet (Figure 5). (Note 17)

Motor gasoline retail outlets have noticeably changed in the past decade.   The rise of convenience stores, co-branded outlets offering both convenience items and branded fast food, and, lately, hypermarkets, (Note 18) filled the financial void left by the decline in types of automotive services provided by motor gasoline outlets.   (These services are now more often provided by quick lubes, tire warehouses, and other specialty retailers.)

Employment, Salaries, and the Value of Outlets All Grow

Convenience items and self-serve motor gasoline grew in importance as repair and maintenance services and full-serve motor gasoline sales diminished in importance. (Note 19)   Consequently, more skilled and higher paid mechanics and attendants were supplanted by cashiers, which tend to be lower skill positions with lower wages.   The average number of employees per outlet increased nationally during the 1990's, from 6.7 employees in 1990 to 7.6 in 1998, a 14-percent increase (Figure 6).   Such a change may be consistent with several hypotheses, including an increase in the number of hours of operation. (Note 20)   Convenience stores may tend toward longer operating hours than service stations and these employment data do not contradict that conclusion. (Note 21)

The associated salary data also do not appear to contradict the idea that the increased number of employees is due to longer hours of operation instead of increased use of part-time employees (over approximately the same number of hours of operation). (Note 22)   The average annual salary received by employees of motor gasoline outlets increased from $12,976 in 1990 to $13,222 in 1998 (both expressed in 1999 dollars).   This change may not be inconsistent with an increased use of part-time employees (Figure 7), depending on the direction and degree to which the more general retailing salary changed between 1990 and 1998.

However, indexing the motor gasoline retail average annual salary (i.e., dividing it by the more general retail average annual salary) tells a slightly different story.   The indexed motor gasoline outlet average annual salary slightly declined from 88 percent of the average annual retail salary in 1990 to 86 percent in 1997. (Note 23)   Thus, while motor gasoline retail employment increased, salaries seem to have remained relatively unchanged during the 1990's, providing some indication that convenience store-format retail outlets likely have more part-time employees and may also have longer operating hours than those of the format they replaced, the traditional service station.   But labor costs may be a target of future cost-cutting efforts in motor gasoline retailing.   A recent article in National Petroleum News discussed the limited introduction of an in-store scanner that allows customers to scan their purchases and then pay a cashier.   A sidebar in the same article discussed the introduction of gasoline clubs that use unattended retail sites.   Both of these innovations allow businesses to substitute capital assets for labor, potentially lowering overall costs. (Note 24)

The capital intensity of retail outlets affords a second approach to quantify the changes in motor gasoline outlets over the past decade.   The capital intensity of the U.S. majors' retail outlets can be measured by the per-outlet value of net investment in place, which increased from $500,000 per outlet in 1990 to $771,000 in 1999 (Figure 8).   The 54-percent increase achieved by the majors may be instructive of underlying industry-wide changes.   The U.S. majors shed 13 percent of their lessee and company-operated outlets between 1990 and 1999, which fell from 31,553 to 27,612. (Note 25)   The average per outlet net investment in place may have increased partially through the divestiture of marginal outlets, which probably tended to be among the smallest outlets (in terms of monthly motor gasoline sales volume, and probably also in terms of capital investment).   However the U.S. majors made considerable capital investment in their retailing outlets over the period 1990 to 1999, fluctuating between a low of $71,538 per outlet in 1993 and a high of $108,481 per outlet in 1990 (Figure 9) and totaled about $22 billion over the period.

The increased marketing investment by the U.S. majors accomplished at least two goals during the decade of the 1990's.   First, this investment enabled the integrated refiners to meet the underground storage tank requirements of the U.S. Environmental Protection Agency. (Note 26)   Second, the investment allowed the U.S. majors to use their existing assets more intensively, as demonstrated by their increased sales volume achieved over the decade.   The U.S. majors average motor gasoline sales, which were 31,000 gallons per month in 1981, were 76,000 gallons per month in 1990, but had increased to 100,000 gallons per month by 1999 (Figure 10).

Marketing Operations of Integrated Refiners and Non-Integrated Refiners Converge

Consolidation Characterizes Integrated Refiners' Gasoline Marketing During 1990's

The U.S. majors as a whole play a significant role in petroleum refining, accounting for 86 percent of U.S. crude distillation capacity (Note 27) and 88 percent of U.S. gasoline production in 1999. (Note 28)   They play a less significant, but still substantial, role in motor gasoline marketing.   For example, in 1999 the branded outlets directly supplied motor gasoline by the U.S. majors were 30 percent of total U.S. retail outlets (Figure 11), but 62 percent of motor gasoline in the United States in 1999 was sold through these branded outlets (Figure 12).

Throughout the 1990's the integrated refiners sold and acquired assets at a remarkable rate as they attempted to reduce their operating costs by refocusing their efforts on those regions of the country in which they had significant market shares. (Note 29)   Thereby the integrated refiners operated in fewer parts of the country in 1999 than they had in 1990, making their marketing operations less national and more regional in scope.

The following chronology indicates the extent to which integrated refiners abandoned some markets, usually without offsetting entry elsewhere, during the 1990's.

1991

• Total Petroleum sold 20 percent of its outlets to reinvest the sale proceeds in a smaller geographic area.
• Shell Oil sold its Seattle outlets, announced plans to sell its outlets in Atlanta and Milwaukee, and bought 90 outlets in Houston.
• Both BP America and Texaco expanded operations in the Pacific Northwest. Texaco additionally expanded in Hawaii and Los Angeles.
• Kerr-McGee began to consolidate its operations in the Midwest by selling its Southeast operations. (Note 30)

1992

• Exxon announced that it would cease marketing motor gasoline in the Los Angeles, California area.
• BP America announced its intent to sell 300 outlets in Northern California and Florida and agreed to sell during 1993 its Washington refinery and the associated retail outlets in Washington and Oregon to Tosco.
• Chevron acquired 69 outlets from Shell Oil that were in the Atlantic Coast area and exchanged 60 mid-Atlantic outlets for Exxon outlets in Southeast Florida. (Note 31)

1993

• Sun exited marketing operations in 7 states between 1991 and 1993.
• BP America ceased its operations in 8 states between 1991 and 1993.
• Unocal, which had operations in 44 states in 1991, operated in only 7 western states by the end of 1993. (Note 32)

1994

• BP sold its California retail network to Tosco.
• Ashland, Exxon, Fina, Mobil, and Unocal all phased out selected retail operations. (Note 33)

1995

• Kerr-McGee sold its refineries and retail outlets to Gary Williams Co., Calumet Lubricants Co., and Koch Industries. (Note 34)

1997

• Unocal sold its West Coast refineries and retail network to Tosco (Note 35) and its share of the Uno-Ven Midwest joint venture to Petroleos de Venezuela, S.A. (PdVSA) (Note 36).

1998

• Coastal sold 64 outlets in Illinois, Iowa, Kansas, Missouri, Nebraska, and Texas in addition to selling or closing another 36 outlets. (Note 37)
• Phillips sold 70 retail outlets to its branded marketers. (Note 38)

1999

• ARCO sold 107 outlets while acquiring 99 outlets.
• BP Amoco sold 124 outlets to Tosco.
• Chevron sold 22 outlets.
• Premcor (formerly Clark USA) divested its entire marketing network of 863 outlets, exiting the U.S. motor gasoline marketing industry.
• Motiva divested 228 outlets while acquiring 53 outlets.
• Phillips acquired 17 outlets.
• Sunoco divested 58 dealer outlets and added 57 company-operated outlets.
• Tosco acquired 124 BP Amoco outlets (noted above) and 43 Boardman (branded "Smile") outlets, and divested 370 outlets in "non-core" areas.
• Ultramar Diamond Shamrock sold 177 outlets to Marathon Ashland Petroleum while divesting another 239 outlets. (Note 39)

The low (Note 40) growth of U.S. motor gasoline sales, which averaged a 2 percent between 1990 and 1999, (Note 41) provided motivation for gasoline retailers to work particularly hard at reducing their operating costs.   More motivation to reduce costs was provided by the relatively low returns of domestic refining/marketing relative to the other lines of business of the integrated refiners over the decade of the 1990's (Figure 13).   Consequently, it's hardly surprising that between 1990 and 1999 the average number of states (including the District of Columbia) in which an integrated refiner had motor gasoline retailing operations fell from 28 to 20 (Table 1).

Expansion Characterizes Independents' Gasoline Marketing During 1990's

While the integrated refiners were refocusing and consolidating their refining and marketing operations during the 1990's, the non-integrated refiners were moving in essentially the opposite direction; expanding both their focus and their areas of operation.   The impetus appeared to build through the early years of the decade and continued through the end of the decade.

Non-integrated refiners expanded their marketing operations through acquiring retail outlets and refineries, many of which were acquired from the integrated refiners (Table 2).   For example, Tosco acquired BP's West Coast operations, Exxon's southwest operations, and Unocal's West Coast operations. (Note 42)   However, some of the largest transactions did not involve the integrated refiners.   For example, in 1996 Tosco acquired Circle K, a convenience store chain.   Ultramar and Diamond Shamrock merged in 1996 to form Ultramar Diamond Shamrock (UDS), (Note 43) which then acquired Total North America in 1997.   After failed attempts to form joint ventures with PetroCanada (1997), Conoco (1997), and Phillips (1998), UDS announced in June 2001 that it was merging with Valero Energy. (Note 44)   Similarly, Phillips Petroleum and Tosco announced in February 2001 that the two companies were merging. (Note 45)

The growth of the non-integrated refiners over the decade of the 1990's was remarkable (Table 2).   The non-integrated refiners had retail operations in an average of 10 states in 1990 with a total of 13,117 retail outlets.   By 1999 the average number of states had risen to 22 and the non-integrated refiners' total retail outlets numbered 21,970. (Note 46)

Profitability in the 1990's

The profitability (Note 47) of the U.S. majors domestic refining and marketing operations (Note 48) was lower than the profitability of the other operations of the U.S. majors for much of the 1990's (Figure 13).   However, the profitability of domestic refining and marketing has increased since 1995 and since 1997 has exceeded the profitability of the majors' remaining lines of business.   These results elicit two obvious questions, "From where did the higher profitability of domestic refining and marketing come?" and "What means were used to gain this result?"

Refining and marketing profitability is strongly correlated with the net refined product margin. (Note 49)   It is through the net refined product margin that the two questions posed above concerning the increased profitability of the U.S. majors' refining and marketing operations may be examined.   The net refined product margin is the gross refining margin (Note 50) minus out-of-pocket operating costs per barrel of refined products sold. (Note 51)   The net refined product margin is a useful tool to examine the question of the source of petroleum refining and marketing profitability because it allows one to separate the effects of product price changes (chief of which is motor gasoline) and operating cost changes.

Over most of the decade of the 1990's the gross refining margin declined, largely indicative of the declining spread between petroleum product prices and raw materials costs (chiefly crude oil costs).   However, the net refined product margin generally increased over the same period (Figure 14). (Note 52)   Historically, increases in the net margin tended to occur when the gross margin increased.   During the 1990's a change occurred as the U.S. majors made an apparently concerted cost-cutting effort.   Consequently, net margins rose despite falling gross margins.   Thus, the increased profitability was largely due to successful efforts to reduce costs.

Cost-Cutting by the U.S. Majors During the 1990's

Now that successful cost-cutting has been credited with the increased profitability of the U.S. majors' refining and marketing operations in the 1990's, the remaining question, "What was the source of the cost reductions?" may be pursued.   Several actions, some well worn but still useful, and others newly developed, were undertaken.   Among the already existing options were using wholesalers more heavily to market motor gasoline, and finding a partner to share costs through a joint venture.   The newly created options incorporated technological advances to lower costs (e.g., satellite communication and in-pump card readers).

Joint ventures are one way in which two (or more) companies can effectively share costs, reducing the per-unit costs of each.   Joint ventures have been used extensively for many years in petroleum exploration, development, and production.   However, for many years, Caltex (which was created in 1936) was the only petroleum refining/marketing joint venture involving a U.S. major.   In fact, both of the partners were (and still are) U.S. majors, Chevron (then Standard Oil of California) and Texaco, but all of the operations of Caltex were overseas.   Caltex currently operates in Asia/Pacific, Africa, and the Middle East.

Many years later, in November 1988, another refining/marketing joint venture including a U.S. major was created.   Again, Texaco was one of the partners.   This time the joint venture operated domestically and was a partnership between Texaco and Saudi Aramco, the state oil company of Saudi Arabia.   The venture was called Star Enterprise and operated along the East and Gulf coasts.   The outlets associated with the joint venture were branded "Texaco."

One year later, in November 1989, Unocal and Petroleos de Venezuela (PdVSA), the state oil company of Venezuela, created a joint venture called Uno-Ven.   Uno-Ven operated in the Midwest with outlets branded "76."   [When Unocal exited the U.S. petroleum refining and motor gasoline marketing industry in 1996, they sold their interest in Uno-Ven to their partner PdVSA, which fulfilled all the supply contracts for their remaining terms.   After the supply contracts expired some outlets became Citgo outlets and the remaining outlets found other suppliers.]

The most-recently created joint ventures, Marathon Ashland Petroleum, Equilon, and Motiva, all began operating in 1998.   Marathon Ashland Petroleum was created by Ashland and USX's Marathon and began operation in January 1998.   Marathon Ashland Petroleum operates in the Midwest and South under the brandnames "Ashland," "Marathon," and "SuperAmerica."   The venture is operated by Marathon, which owns 62 percent of the venture. (Note 55)

Equilon also began operating in January 1998 and is a joint venture between Shell Oil (the U.S. affiliate of Royal Dutch/Shell) and Texaco.   Equilon has operations in the West, Southwest, and Midwest under the brandnames "Shell" and "Texaco."   Motiva began operation in July 1998 and is a joint venture between Shell Oil and Star Enterprise (i.e., Texaco and Saudi Aramco).   Motiva has operations on the East and Gulf Coasts using the brandnames "Shell" and "Texaco."   Shell controls both Equilon and Motiva, holding 56 percent of Equilon (Texaco holds the remaining 44 percent) and 35 percent of Motiva (both Saudi Aramco and Texaco hold equal shares of 32.5 percent). (Note 56)

Another major technical innovation of the 1990's was the introduction of point-of-sales electronic payment systems. (Note 58)   The point-of-sales payment system allowed real-time inventory tracking and quicker credit card approval through the use of computer networks and satellite communication.

Other innovations aimed at increasing the value and/or lowering the operating costs of the U.S. majors' retail outlets include introducing name-brand fast food (i.e., multiple-format/co-branding) and in-store automatic teller machines.   Additional efforts were made to make the outlets a destination instead of a stop along the way. (Note 59)   Another means of cost-cutting employed by the U.S. majors during the 1990's was elimination of their credit card operations. (Note 60)

This study has focused on motor gasoline marketing, perhaps the most visible of the lines of business of the U.S. majors' petroleum operations.   Subsequent review of these collected data indicates that the U.S. majors' efforts to restructure their investment in domestic motor gasoline marketing and related cost reductions increased the profitability of their domestic refining and marketing operations over the latter part of the 1990's.   In particular, the integrated refiners reduced the number of their branded retail outlets, increased the volume of motor gasoline sold through their remaining branded outlets, and added various non-motor gasoline activities to increase outlet revenue (or reduce outlet operating cost).

The integrated refiners' restructuring and cost-cutting created many opportunities for the non-integrated refiners to considerably expand the scale and scope of their motor gasoline marketing operations during the 1990's.   Consequently, the distinctions between the integrated refiners and the non-integrated refiners (at least from a domestic refining/marketing perspective) blurred during the 1990's as the non-integrated refiners purchased many of the integrated refiners' divested assets.   In fact, many of the non-integrated refiners of 1990 were considered U.S. majors by the conclusion of 1999.   Of the 11 companies that were added to EIA's Financial Reporting System in 1998, 10 were non-integrated refiners.

One of the more interesting questions implied by the findings of this study is, "What companies will constitute the near-term set of companies that the Federal Trade Commission (FTC) allows to purchase divested assets of merging petroleum refining and gasoline marketing companies?"   Throughout the 1990's the non-integrated refiners were consistently allowed by the FTC to purchase the assets that the FTC required the U.S. majors to divest in order to merge.   However, now that the non-integrated refiners are U.S. majors, who will be allowed to purchase the assets (if any) that the FTC requires to be divested before approving future mergers?   This study attempted to add to the organization and analysis of existing motor gasoline marketing data, and thereby to allow the FTC, other regulators, policy makers, and other interested parties to answer such questions more easily.